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Stocks rallied last week on news of a stopgap debt-ceiling deal in Congress, pushing the Standard & Poor's 500 to a record high, up 22% on the year. One mega-cap stock that has sat out the party is
AT&TT -0.29745112595892104%AT&T Inc.U.S.: NYSEUSD40.2898
-0.1202-0.29745112595892104%
/Date(1481308611999-0600)/
Volume (Delayed 15m)
:
6760984
P/E Ratio
17.10828025477707Market Cap
248157809062.958
Dividend Yield
4.864730702407545% Rev. per Employee
583858More quote details and news »TinYour ValueYour ChangeShort position
(ticker: T), up just 2% on the year and 59% since the market bottomed in March 2009. The S&P 500 is up 158% over the same period.

This laggard is now piquing the interest of value-oriented investors, thanks in part to its rich 5.2% yield.

"Like some other established industrial stocks, AT&T is a darling of the bond market, but when you shift to the stock market, people don't want to give it the time of day," says David King, co-manager of the Columbia Flexible Capital Income fund, which owns the shares. He points out that the shares, at $34, yield more than AT&T's 10-year debt, now around 3.75% and that the company comfortably covers its dividend.

AT&T is posting strong subscriber growth as it upgrades its wireless network.
George Frey/Bloomberg News

Free cash flow this year after capital expenditures is expected to total more than $14 billion, versus dividend payments of $10 billion.

The company takes the payout seriously. "Our dividend is clearly a sacred matter for us," said CFO John Stephens at AT&T's earnings conference call in July. "We clearly understand as managers of AT&T the importance of our dividends to our shareholders."

The shares get little respect from institutional investors; large swaths of the stock are owned by index funds. But King notes that some analysts with Neutral ratings still have price targets in the high $30s, and that few see much downside. If AT&T can get back to its 52-week high of $39 in the next year, it would generate a nearly 20% total return.

In this year's second quarter, AT&T added 551,000 "post-paid" wireless subscribers, including both cell- phones and tablets. That was the company's second-best quarterly showing in four years.

Post-paid subs, who are billed monthly, are the most desirable wireless subscribers, due to higher usage and loyalty than prepaid customers. The company is due to report its third-quarter results on Wednesday.

Those results could be damped by a positive development: strong smartphone sales, including the new Apple 5S iPhones. High sales result in increased initial subsidies to subscribers, who pay only a fraction of the phone's cost upfront. These subscribers more than pay the cost of the phone subsidy over the life of their contracts.

Verizon Wireless, now 55%-owned by Verizon Communications, has more revenue and profit than AT&T's wireless business but AT&T has more subscribers, at 107.9 million versus 101.2 million for Verizon. Verizon Wireless is expected to generate $33 billion of pretax cash flow this year on revenue of $82 billion, versus $24 billion of pretax cash flow and $70 billion of sales for AT&T wireless.

Verizon last month agreed to buy the 45% of Verizon Wireless it did not already own from European wireless operator
Vodafone
(VOD) for $130 billion. That deal is expected to close in the first quarter of next year.

At 13.9 times this year's earnings estimates, AT&T trades at a discount to Verizon, which has a price/earnings ratio of 17.8. The discount is largely due to the fact that Verizon is viewed as having the country's best wireless network.

The company gets more than half its sales from its wireless division. It has been moving customers in its declining landline business from copper wires to its high-speed fiber U-verse network. While total wireline revenue declined about 1% in the second quarter, U-verse revenue grew 30% and now makes up more than half of consumer wireline sales.

The twin investor concerns with AT&T are greater competition in the U.S. wireless market and a potential purchase of Vodafone, once the Verizon Wireless deal is completed. Craig Moffett of MoffettNathanson Research, notes that the U.S. wireless market is now being upended by T-Mobile, thanks to an improving network, price cuts, and the ability finally to offer Apple's iPhones this year. While Sprint still lags behind, its controlling holder,
SoftBank
(SFTBY), is investing heavily to make it competitive.

Competition could roil the domestic wireless market but some of that risk already is reflected in AT&T's weak share price. One factor working in AT&T and Verizon's favor is the prevalence of family and other bundled wireless plans that make it difficult and costly for users to switch networks.

Investors also are wary of AT&T CEO Randall Stephenson's European ambitions. AT&T has essentially put aside any thoughts of a large U.S. acquisition due to antitrust roadblocks, and Stephenson said recently that there is a "huge opportunity" to invest in European next-generation wireless data services. A deal for Vodafone probably would cost over $100 billion, including assumed debt. AT&T now is valued at $183 billion, plus about $70 billion of net debt.

King notes that AT&T can't seem to win because if it doesn't buy in Europe, investors will focus on its perceived growth challenges, while a big European acquisition could be viewed as risky.

AT&T BRASS ARE LIKELY TO face a barrage of questions on the earnings conference call this week, including queries about European deals, possible sales of cellphone towers, the next-generation wireless data rollout, a maturing smartphone market, wireline erosion and stock buybacks. Many AT&T investors care about one thing. Is the dividend safe?

The Bottom Line

AT&T could rise to around $40 in the next year. Add in the rich payout, and it could generate a 20% total return.

Given AT&T's strong free cash flow and its conservative attitude toward lifting the payout, there appears to be little risk. The company has raised its dividend for 29 consecutive years dating back to the original breakup of AT&T in 1984. Annual increases in recent years, however, have been just four cents a year, to a current annual rate $1.90. The dividend could be raised next month.

Share buybacks have also been a large focus, though they are likely to be scaled back in the coming quarters due in part to the company's coming $4 billion purchase of
Leap Wireless
(LEAP), including assumed debt.

Here's what Morgan Stanley analyst Simon Flannery has written about the dividend: "Despite the risks from higher capital expenditures due to Project VIP [notably the nationwide high-speed data network], we see strong support for the dividend."

With a secure 5%-plus payout and lucrative wireless business, an out-of-favor AT&T looks like a good play—and not just for income-oriented investors.